Private equity firms grapple with surging asset prices

Head of Bain's Australian practice, Simon Henderson, said asset prices were a real concern for private equity firms seeking new investments.
Louise Kennerley

by
Joyce Moullakis

Private equity executives have identified surging asset prices as one of the biggest challenges confronting the industry in 2015, particularly as competition for assets remains fierce and globally firms have $US1.2 trillion ($1.5 trillion) in funds to deploy.

Senior industry figures gathered at the annual AVCJ conference in Sydney on Thursday, to debate the hot topics. That follows a frenetic year of private equity exits in 2014, and a shift of focus this year on making new investments despite the collapse of several high-profile acquisition attempts at companies including mining services group Bradken and Treasury Wine Estates.

Head of Bain & Company Australia, Simon Henderson said while the US economy was recovering and private equity industry was benefiting from "super abundant" levels of capital, asset prices were a real concern for firms.

"Prices are going to stay higher we think for the next decade," he told the conference, noting that higher acquisition multiples would make it more difficult to earn the same level of returns in the future.

In reference to US assets, he said: "There are going to be some bubbles in there."

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On investments across Asia, Mr Henderson also said it was increasingly difficult to "spot the winners."

He added that the situation was complicated by private equity firms globally having dry powder of $US1.2 trillion to deploy, with that figure tipped to increase.

Mr Henderson also cautioned that private equity had to be mindful to create significant value in portfolio companies, as many would have to hold them for longer than the average three-to-five year period.

The days of the "quick flip" selling of assets are numbered, he quipped. Mr Henderson also talked about the perceived threat to the industry as traditional investors in private equity – or limited partners as they are known – conducted more direct investments.

"The reality is there is tension there but it is not a threat," he said.

Others participating in the debate at the conference also weighed into the issue of tension between firms and investors, and difficulties in sourcing deals in a rising asset price environment.

The Carlyle Group's local boss, Simon Moore echoed that view saying the challenge was finding "sensible places" to invest, while firms would need to re-examine their expectations on returns from their investments.

"With so much dry powder, from our perspective, it's [new investments] going to be something we do cautiously."

KKR & Co director, Leigh Oliver said the firm was being "more creative" in deploying capital, by expanding into other areas and pursuing smaller transactions that were previously not on the radar.

Steve Martinez, who heads Apollo Global Management's Asia Pacific units, characterised the market for assets as "relatively fully priced," but he doesn't believe prices are as frothy as before the global financial crisis, when there was also more leverage in mergers and acquisitions.

Apollo and TPG are understood to be involved in separate bidding groups for GE Capital's local consumer finance operations. Carlyle's interest in the GE sale is said to have waned, after being initially linked to a consortium with Macquarie Group and Pepper Australia.

CHAMP Private Equity's chief, John Haddock is of the view that value can still be found in Australia as firms scour the market for new investments.

"For the established players I think there are some good opportunities to find deals. Financing markets also continue to be quite good."

Mr Haddock also pointed out that Australia's newly minted free trade agreements with China, Japan and South Korea, presented more options to grow the earnings of existing portfolio investments as well as buying companies that could benefit from geographic expansion.

Investors at the conference touched on the tension between them and private equity firms on issues such as fees.

Portfolio manager at South Australia's Funds SA Clive Boyce said the traditional 2 per cent management fee and 20 per cent performance fee structure imposed by private equity funds was "hard to shake off in boardrooms as anything other than expensive."

QIC's private equity boss Marcus Simpson talked about seeing more opportunities to co-invest directly in assets, allowing the government-owned firm to be more nimble.

US Ambassador John Berry, who spoke to attendees over lunch, said the industry had a big role to play in innovation and infrastructure, which would be drivers of future economic growth.

Mr Berry said the feedback he'd received from US venture capital funds was that "risk tolerance" in Australia was lower. He also noted that the US was warming to the idea of joining an Asian infrastructure bank.

"It has come a long way from the initial idea," Mr Berry said, noting that the US wanted the structure to abide by the same rules and regulatory framework of the past 75 years. "Our hope is that we can get to point where we can join."

Bain's report showed that private equity exits were at a record level globally last year, but global buyout investment activity was weak and declined 2 per cent in value compared to 2013 activity levels.